Table of Contents

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

_______________________

FORM 10-Q

QUARTERLY REPORT

pursuant to Section 13 or 15(d)

of the Securities Exchange Act of 1934

FOR THE QUARTERLY PERIOD ENDED March 31,SEPTEMBER 30, 2018

000-15701

(Commission file number)

NATURAL ALTERNATIVES INTERNATIONAL, INC.

(Exact name of registrant as specified in its charter)

Indicate by check mark whether Natural Alternatives International, Inc. (NAI)NAI (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that NAI was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

[X]    ☒  Yes     [_]☐  No

Indicate by check mark whether NAI has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that NAI was required to submit and post such files).

[X]    ☒  Yes     [  ]☐  No

Indicate by check mark whether NAI is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company.

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐

Indicate by check mark whether NAI is a shell company (as defined in Rule 12b-2 of the Exchange Act).

[_]: ☐ Yes [X]☒ No

As of May 14,November 13, 2018, 7,558,4097,570,871 shares of NAI's common stock were outstanding, net of 1,098,2681,105,806 treasury shares.

TABLE OF CONTENTS

SPECIAL NOTE ABOUT FORWARD-LOOKING STATEMENTS

Certain statements in this Quarterly Report,report, including information incorporated by reference, are “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, Section 21E of the Securities Exchange Act of 1934, and the Private Securities Litigation Reform Act of 1995. Forward-looking statements reflect current views about future events and financial performance based on certain assumptions. TheyThese include opinions, forecasts, intentions, plans, goals, projections, guidance, expectations, beliefs, or other statements that are not statements of historical fact. Words such as “may,” “will,” “should,” “could,” “would,” “expects,” “plans,” “believes,” “anticipates,” “intends,” “estimates,” “approximates,” “predicts,” “forecasts,” or “projects,” or the negative or other variation of such words, and similar expressions may each identify a statement as a forward-looking statement. Any statements contained herein that refer to projections of our future financial performance, our anticipated growth and trends in our business, our goals, strategies, focus and plans, and other characterizations of future events or circumstances, including statements expressing general optimism about our future operating results, are forward-looking statements. Forward-looking statements in this Quarterly Reportreport may include statements about:

The forward-lookingForward-looking statements in this Quarterly Reportreport speak only as of the date of this Quarterly Reportreport and caution should be taken not to place undue reliance on any such forward-looking statements. Forward-looking statements are subject to certain events, risks, and uncertainties that are or may be outside of our control. When considering forward-looking statements, you should carefully review the risks, uncertainties and other cautionary statements in this Quarterly Reportreport as they identify certain important factors that could cause actual results to differ materially from those expressed in or implied by the forward-looking statements. These factors include, among others, the risks described under Item 1A of Part II and elsewhere in this Quarterly Report,report, as well as in other reports and documents we file with the United States Securities and Exchange Commission (SEC).

Unless the context requires otherwise, all references in this Quarterly Report to the “Company,” “NAI,” “we,” “our,” and “us” refer to Natural Alternatives International, Inc. and, as applicable, Natural Alternatives International Europe S.A. (NAIE).

PART I – FINANCIAL INFORMATION

ITEM 1.     FINANCIAL STATEMENTS

NATURAL ALTERNATIVES INTERNATIONAL, INC.

Condensed Consolidated Balance Sheets

(In thousands, except share and per share data)

See accompanying notes to condensed consolidated financial statements.

NATURAL ALTERNATIVES INTERNATIONAL, INC.

Condensed Consolidated Statements Ofof Income Andand Comprehensive Income

 (In(In thousands, except share and per share data)

(Unaudited)

See accompanying notes to condensed consolidated financial statements.

NATURAL ALTERNATIVES INTERNATIONAL, INC.

Condensed Consolidated Statements Ofof Cash Flows

 (In thousands)(In thousands, except share and per share data)

(Unaudited)

See accompanying notes to condensed consolidated financial statements.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

We excluded shares related to restricted stock totaling 175,00015,000 shares for the three and nine months ended March 31,September 30, 2018, as their impact would have been anti-dilutive. No shares related to stock options were excluded for the three months ended September 30, 2018. No shares related to stock options or restricted stock were excluded for the three and nine months ended March 31,September 30, 2017.

Revenue Recognition

To recognizeWe record revenue four basic criteria must be met: 1) there is evidence that an arrangementbased on the five-step model which includes: (1) identifying a contract with a buyer exists; 2) delivery has occurred; 3)customer; (2) identifying the feeperformance obligations in the contract; (3) determining the transaction price; (4) allocating the transaction price among the performance obligations; and (5) recognizing revenue when the various performance obligations are satisfied.

Revenue is fixed or determinable;measured as the net amount of consideration expected to be received in exchange for fulfilling one of more performance obligations. We identify purchase orders from customers as contracts. The amount of consideration expected to be received and 4) collectabilityrevenue recognized includes estimates of variable consideration, including estimates for early payment discounts and volume rebates. Such estimates are calculated using historical averages adjusted for any expected changes due to current business conditions and experience. We review and update these estimates at the end of each reporting period and the impact of any adjustments is reasonably assured. Revenuerecognized in the period the adjustments are identified. In assessing whether collection of consideration from sales transactions wherea customer is probable, we consider both the buyer hascustomer's ability and intent to pay that amount of consideration when it is due. Payment of invoices are due as specified in the rightunderlying customer agreement, typically 30 days from the invoice date, which occurs on the date of transfer of control of the products ordered to return the productcustomer.

Revenue is recognized at the point in time that our performance obligation is fulfilled, and control of sale only if (a) the seller’s priceordered products is transferred to the buyercustomer. This occurs when the product is substantially fixedshipped, or determinable atin some cases, when the date of sale; (b) the buyer has paid the seller, or the buyerproduct is obligated to pay the seller and the obligation is not contingent on resale of the product; (c) the buyer’s obligationdelivered to the seller would not be changed in the event of theft or physical destruction or damage of the product in its present location; (d) the buyer acquiring the product for resale has economic substance apart from that provided by the seller; (e) the seller does not have significant obligations for future performance to directly bring about resale of the product by the buyer; and (f) the amount of future returns can be reasonably estimated. We recognize revenue upon determination that all of the foregoing criteria for revenue recognition have been met. The criteria are usually met at the time title passes to the customer, which usually occurs upon shipment. Revenue from shipments where title passes upon completion of delivery is deferred until the shipment has been delivered.customer.

We record reductionsprovide early payment discounts to gross revenuecertain customers. Based on historical payment trends, we expect that these customers will take advantage of these early payment discounts. The cost of these discounts is reported as a reduction to the transaction price. If the actual discounts differ from those estimated, the difference is reported as a change in the transaction price.

Except for estimatedproduct defects, no right of return exists on the sale of our products. We estimate returns of private-label contract manufacturing products and beta-alanine raw material sales. The estimated returns are based on the trailing nine months of private-label contract manufacturing gross sales and our historical experience and recognize a returns liability for both private-label contract manufacturing and beta-alanine raw material salesany estimated returns. However, the estimate for productAs of September 30, 2018, we have no known returns does not reflect the impactliability.

On August 7, 2017, we entered into three agreements (“Agreements”), with The Juice Plus+ Company LLC (“Juice Plus+”). The Agreements are an Exclusive Manufacturing Agreement, a Restricted Stock Award Agreement, and an Irrevocable Proxy. Pursuant to the Exclusive Manufacturing Agreement, Juice Plus+ has granted us exclusive rights to manufacture and supply them with certain of their products within 24 countries where Juice Plus+ currently sells those products. Pursuant to the Restricted Stock Award Agreement, NAI has granted 500,000 shares of NAI common stock to Juice Plus+, (the “Shares”), and Juice Plus+ has agreed the Shares are subject to certain restrictions and risk of forfeiture. Pursuant to the Irrevocable Proxy, Juice Plus+ has also granted to the NAI Board of Directors the right to vote the Shares that remain subject to the risk of forfeiture. Each Agreement is for a term of 5 years, and each may be terminated by either party only upon the occurrence of specified events. The expense associated with the sharesShares granted to Juice Plus+ is recorded as a reduction to revenue. We recorded $245,000$245,000 of expense during the three months ended September 30, 2018 and $163,000 for the three months ended September 30, 2017 as a "Non-cash Sales Discount" which is an offset to net sales during the three months ended March 31, 2018 and $653,000 during the nine months ended March 31, 2018.sales.

We currently own certain U.S. patents, and patent applications, andeach patent’s corresponding foreign patents and patent applications. All of these patents and patent rights relate to the ingredient known as beta-alanine which we marketmarketed and sellsold under our CarnoSyn® and SR CarnoSyn® trade names. We recorded beta-alanine raw material sales and royalty and licensing income as a component of revenue in the amount of $6.2$5.4 million during the three months ended March 31,September 30, 2018 and $16.0$5.9 million during the ninethree months ended March 31, 2018. We recorded $6.6 million during the three months ended March 31, 2017 and $20.0 million during the nine months ended March 31,September 30, 2017. These royalty income and raw material sale amounts resulted in royalty expense from payments madepaid to the original patent holders from whom NAIwe acquired itsthe patents and patent rights. We recognized royalty expense as a component of cost of goods sold in the amount of $215,000$263,000 during the three months ended March 31,September 30, 2018, and $659,000$284,000 during the ninethree months ended March 31, 2018. We recognized $233,000 of royalty expense during the three months ended March 31, 2017 and $799,000 during the nine months ended March 31,September 30, 2017.

Notes Receivable

On September 30, 2017, we accepted a 12-month12-month note (Loan Agreement) from Kaged Muscle, LLC (“Kaged Muscle”), one of our contract manufacturing customers, in exchange for $1.5$1.5 million of trade receivables due to us from Kaged Muscle. On September 30, 2018, we entered into a First Amendment (the “First Amendment”) with Kaged Muscle in connection with the Loan Agreement. The First Amendment modifies the Loan Agreement and related promissory note by extending the maturity date from September 30, 2018 to December 28, 2018 in exchange for an extension fee in the amount of $25,000. Kaged Muscle is one of our fastest growing sports nutrition customers and we executed this note receivable conversion, and subsequent amendment, to assist them with their near term financing needs. The note carries an interest rate of fifteen percent (15%(15%) per annum andwith payments of interest only.  Repayment of the note is an interest only note secured by all of the assets of Kaged Muscle and a personal guaranteethe note is personally guaranteed by the co-founder and President of Kaged Muscle. Interest is due quarterly and the note can be paid downprepaid in any amount at any time without penalty.  WeIn association with this note, we recognized $56,000$58,000 in interest income during the three months ended March 31,September 30, 2018 and $114,000zero interest income during the ninethree months ended March 31, 2018 associated with this note from Kaged Muscle.September 30, 2017.

Stock-Based Compensation

We have an omnibus equity incentive plan that was approved by our Board of Directors effective as of October 15,2009 and approved by our stockholders at the Annual Meeting of Stockholders held on November 30,2009. Under the plan,2009 Plan, we may grant nonqualified and incentive stock options and other stock-based awards to employees, non-employee directors and consultants.

We estimate the fair value of stock option awards at the date of grant using the Black-Scholes option valuation model. The Black-Scholes option valuation model was developed for use in estimating the fair value of traded options that have no vesting restrictions and are fully and freely transferable. Option valuation models require the inputuse of highly subjective assumptions. Black-Scholes uses assumptions related to volatility, the risk-free interest rate, the dividend yield (which we assume to be zero, as to date we have not paid any cash dividends) and employee exercise behavior. Expected volatilities used in the model are based on the historical volatility of our stock price. The risk-free interest rate is derived from the U.S. Treasury yield curve in effect onin the dateperiod of grant. The expected life of stock option grants is derived from historical experience. The fair value of restricted stock shares granted is based on the market price of our common stock on the date of grant. We amortize the estimated fair value of our stock awards to expense over the related vesting periods.

We recognize forfeitures as they occur.   

We did not grant any options during the three month months ended September 30, 2018 or nine month periodsthe three months ended March 31, 2018 or September 30, 2017. All remaining outstanding stock options are fully vested. NoDuring the three months ended September 30, 2018, 5,000 options were exercised. There were no options exercised during the three month or nine month periods months ended March 31, 2018 or September 30, 2017. There were no forfeitures during the three months ended March 31, 2018. DuringSeptember 30, 2018 or the ninethree months ended March 31, 2018, 5,000 options were forfeited. There were no forfeitures during the three month or nine month periods ended March 31,September 30, 2017.

During the three and nine months ended March 31,September 30, 2018, we granted 175,000 sharesa total of 15,000 restricted stock shares to the members of our Board of Directors and certain key membersa new member of our management team. DuringWe did not grant any shares to employees during the three months ended March 31, 2017, we granted 140,000 shares of restricted stock to the members of our Board of Directors and certain key members of our management team. During the nine months ended March 31, 2017, we granted 150,000 shares of restricted stock to the members of our Board of Directors and certain key members of our management team.September 30, 2017. Our net income included stock based compensation expense of approximately $322,000$409,000 for the three months ended March 31,September 30, 2018, and $925,000$301,000 for the ninethree months ended March 31, 2018. Our net income included stock based compensation expense of approximately $223,000 for the three months ended March 31, 2017, and $729,000 for the nine months ended March 31,September 30, 2017.

Fair Value of Financial Instruments

Fair value is defined as the exchange price that would be received to sell an asset or paid to transfer a liability (i.e., the “exit price”) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants at the measurement date. We use a three-levelthree-level hierarchy for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that observable inputs be used when available. Observable inputs are inputs that market participants would use in pricing the asset or liability based on market data obtained from independent sources. Unobservable inputs are inputs that reflect our assumptions about the inputs that market participants would use in pricing the asset or liability and are developed based on the best information available under the circumstances.

The fair value hierarchy is broken down into three levels based on the source of inputs. In general, fair values determined by Level 1 inputs use quoted prices (unadjusted) in active markets for identical assets or liabilities that we have the ability to access. We classify cash, cash equivalents, and marketable securities balances as Level 1 assets. Fair values determined by Level 2 inputs are based on quoted prices for similar assets or liabilities in active markets, quoted prices for identical or similar assets or liabilities in markets that are not active and models for which all significant inputs are observable or can be corroborated, either directly or indirectly by observable market data. Level 3 inputs are unobservable inputs for the asset or liability, and include situations where there is little, if any, market activity for the asset or liability. These include certain pricing models, discounted cash flow methodologies and similar techniques that use significant unobservable inputs.

As of March 31,September 30, 2018, and June 30, 2017, 2018, we did not have any financial assets or liabilities classified as Level 1, except for cashassets and cash equivalents, and assetsliabilities related to our pension plan. We classify derivative forward exchange contracts as Level 2 assets. The fair value of our forward exchange contracts as of March 31,September 30, 2018 was a net liabilityasset of $3.1$1.0 million. The fair value of our forward exchange contracts as of June 30, 2017 was2018 included a net asset of $55,000 and a net liability of $521,000.$55,000, with no right of offset. As of March 31,September 30, 2018, and June 30, 2017 2018, we did not have any financial assets or liabilities classified as Level 3. We did not transfer any assets or liabilities between Levels during fiscal 20172018 or the ninethree months ended March 31,September 30, 2018. 

Concentrations of Credit Risk

Financial instruments that subject us to concentrations of credit risk consist primarily of cash and cash equivalents and accounts receivable. We place our cash and cash equivalents with highly rated financial institutions. Credit risk with respect to receivables is concentrated with our three largest customers, whose receivable balances collectively represented 65.4%67.6% of gross accounts receivable at March 31,September 30, 2018 and 65.6%76.6% at June 30,2017. 2018. Additionally, amounts due related to our beta-alanine raw material sales were 26.1%20.4% of gross accounts receivable at March 31,September 30, 2018, and 21.3%17.3% of gross accounts receivable at June 30, 2017. 2018. Concentrations of credit risk related to the remaining accounts receivable balances are limited due to the number of customers comprising our remaining customer base.

During the three months ended September 30, 2018, the amounts reclassified from OCI were comprised of $41,000 of losses reclassified to net revenues and $487,000 related to the amortization of forward points reclassified to other income.

Our private labelprivate-label contract manufacturing products are sold both in the U.S. and in markets outside the U.S., including Europe, Canada, Australia, New Zealand, and Asia, as well as Canada, Mexico and South Africa.Asia. Our primary marketmarkets outside the U.S. is Europe.are Europe and Asia. Our patent and trademark licensing activities are primarily based in the U.S.

Net sales by geographic region, based on the customers’ location, were as follows (in thousands):